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Some people are concerned that, if they pay off their mortgages, they will lose their tax deductions on the interest they pay. That’s true, but it’s a no-brainer to realize that it is far better to give up a tax deduction in exchange for not having to pay interest in the first place.
Tax deductions are worth only the amount of our tax bracket, whereas not having to pay interest is worth the inverse of that. For example, if our tax bracket is 33%, then our deductions are worth 33 cents per dollar of interest paid. The other 67% is out of our pockets.
However, if we have no interest payments at all, there is nothing out of our pockets. Therefore, tax deductions will save us 33%, but not paying interest will save 67%.
Getting rid of interest payments is twice as valuable as a tax deduction.
I did what you said and went to bankrate.com and this is what I came up with.
My numbers are:
mortgage: $128,000
interest: 6%
monthly payment: $767.42
my discretionary: $400
If I apply the $400 every month to my mortgage I will save 17 years and pay $57,979.34 in interest according to bankrate.com
Using the MMA and putting my line of credit at 9% (it really is 7.75%) I will save 20.5 years and pay $41,211.62 in total interest to my heloc and my mortgage company.
So, what am I missing here?
I will actually own my home in 6.1 years because my heloc is 7.75% and I started paying my own escrows instead of sending it off to the mortgage company every month. So now that escrow money sits in my heloc helping to keep my balance down every month so that I pay a lower effective interest rate to my line of credit.
Assume you are starting with a 0 balance on the HELOC, not the $3500 balance after purchase.
Are you making sure you are comparing apples to apples, both scenario's calculated from day 1 of a mortgage.
To figure my formula I'd need to know.....
What is your total monthly outgo in total living expenses.
What is your Total Monthly Income
What is your average daily balance on the HELOC (can do rough calc of this with above two)
I fully understand the concept that you are paying a lower effective interest rate on the line of credit as you carry a lower average daily balance than what you actually take out of the line. I calculated it once and it does cause a significant drop in interest charges. I even showed that there IS in fact a mathematical advantage using the MMA, but it is not nearly as large as claimed, and in most cases would not save one more than $3500.
Scold me, laugh at me, shake your head in digust, I'm moving forward with the MMA. I've run the numbers on every senario in my personal life and yes it will work. TJ
I did what you said and went to bankrate.com and this is what I came up with.
My numbers are:
mortgage: $128,000
interest: 6%
monthly payment: $767.42
my discretionary: $400
If I apply the $400 every month to my mortgage I will save 17 years and pay $57,979.34 in interest according to bankrate.com
Using the MMA and putting my line of credit at 9% (it really is 7.75%) I will save 20.5 years and pay $41,211.62 in total interest to my heloc and my mortgage company.
So, what am I missing here?
We don't know, since you didn't show any of your work. I imagine you did something wrong on the second example - you'd need about $700 extra a month towards the mortgage to pay it off 20.5 years quicker. The last time you tried this calculation it showed that the using the MMA account took longer to pay off than using the simple method of paying off the mortgage. What did you do differently this time to make the calculations look better? The $700 extra needed to pay off the loan in 9.5 years is suspiciously close to the monthly payment on the mortgage - was that number used twice instead of the $400 you thought you were using? It's also about double the $400 you expected to put in - did you use $400 bi-weekly instead of monthly? That'd make the math work out almost exactly.
Some people are concerned that, if they pay off their mortgages, they will lose their tax deductions on the interest they pay. That’s true, but it’s a no-brainer to realize that it is far better to give up a tax deduction in exchange for not having to pay interest in the first place.
Tax deductions are worth only the amount of our tax bracket, whereas not having to pay interest is worth the inverse of that. For example, if our tax bracket is 33%, then our deductions are worth 33 cents per dollar of interest paid. The other 67% is out of our pockets.
However, if we have no interest payments at all, there is nothing out of our pockets. Therefore, tax deductions will save us 33%, but not paying interest will save 67%.
Getting rid of interest payments is twice as valuable as a tax deduction.
True, if it were free. But it isn't - you have to pay extra to your mortgage to pay it off early. The important question you keep avoiding is how much does it cost you (both in actual mortgage payments and in lost interest on those extra payments) if you do pay the mortgage off compared to the interest you pay if you don't. So far I haven't seen much exploration of this topic, only the assumption that the mortgage gets paid off for free so you automatically gain a bunch of money from nothing.
Assume you are starting with a 0 balance on the HELOC, not the $3500 balance after purchase.
Are you making sure you are comparing apples to apples, both scenario's calculated from day 1 of a mortgage.
To figure my formula I'd need to know.....
What is your total monthly outgo in total living expenses.
What is your Total Monthly Income
What is your average daily balance on the HELOC (can do rough calc of this with above two)
I fully understand the concept that you are paying a lower effective interest rate on the line of credit as you carry a lower average daily balance than what you actually take out of the line. I calculated it once and it does cause a significant drop in interest charges. I even showed that there IS in fact a mathematical advantage using the MMA, but it is not nearly as large as claimed, and in most cases would not save one more than $3500.
I forgot the fact that I also paid $10,000 to my credit union to payoff my minivan. I did include the $3,500 in the heloc.
So if I have a balance in my line of credit of $13,500 how much interest do I pay per month?
If I include the minivan payment in my discretionary the MMA still beats the bankrate.com by a little over a year, almost 2, and I still save an extra $1000 in interest. And that is still using the 9% rate, not the 7.75% that I am really paying.
According to my heloc statement for 25 days I paid a 6.740% apr and then for the last 6 days before the statement closed I paid 5.99% apr.
It's also about double the $400 you expected to put in - did you use $400 bi-weekly instead of monthly? That'd make the math work out almost exactly.
Monthly discretionary is monthly discretionary, you can't put in discretionary as a bi-weekly number. You either have $400 at the end of the month or $800.
True, if it were free. But it isn't - you have to pay extra to your mortgage to pay it off early. The important question you keep avoiding is how much does it cost you (both in actual mortgage payments and in lost interest on those extra payments) if you do pay the mortgage off compared to the interest you pay if you don't. So far I haven't seen much exploration of this topic, only the assumption that the mortgage gets paid off for free so you automatically gain a bunch of money from nothing.
I am not following this question. Could you further explain, please.
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